Ukraine draws on gas reserves in prolonged row

KIEV Tue Jan 13, 2009 11:52am EST

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KIEV (Reuters) - Ukraine, starved of Russian gas, is playing a high-risk waiting game, trying to eke out its fuel reserves until later this year when falling energy prices should mean it can cut a cheaper gas deal with Moscow.

What it cannot do is throw in the towel now and pay the $450 per 1,000 cubic meters of gas that Russia is demanding. Analysts say its economy, saddled with debt and ravaged by the global slowdown, can ill afford that price.

But how long can it hold out for a better deal?

"Ukraine is supplied with enough gas to last somewhere between 100 and 110 days," Viachaslau Herasimovich, energy analyst at independent think tank CASE Ukraine, told Reuters.

He said current reserves in underground storage were enough to last about 80 days, while the extra days were calculated from the amount of gas Ukraine itself would produce between now and the exhaustion of existing reserves.

Ukraine's crisis-hit economy, forecast to shrink by up to 5 percent this year, will struggle with a sudden switch to market prices demanded by Russian gas supplier Gazprom, which are currently more than double the discounted rate paid in 2008.

Ukraine must repay $30 billion of its debt this year, just as its chemical and steel sectors, which rake in more than half the national export revenues, scale back production in line with the global economic slowdown.

There is, however, one blessing to the downturn. "Ukrainian industry, at this point of time, does not require as much gas as it did last year," said Herasimovich.

He estimated consumption this year would drop to 60 billion cubic meters from 70 billion in each of the last five years.

BUSINESSES CLOSING

Ukrainian state energy firm Naftogaz says reserves in underground storage total 16.5 billion cubic meters. Average consumption rates suggest these alone can last over two months.

"That should be enough to last until the end of the heating season (in March)," said Volodymyr Saprykin, analyst at the Kiev-based Razumkov think tank.

"But one must take into account the technical complexities of supplying the entire country with our own gas alone. Some businesses, hospitals and schools will be closed as it's not permissible to carry on the gas war to the end of all reserves."

The "war" appears to be escalating. An EU-backed deal cleared Russia to start pumping to Europe via Ukraine, but within hours Gazprom accused Kiev of stealing gas for itself, with support from the United States.

This threatens the transit deal before the ex-Soviet rivals have even managed to renew their own talks on 2009 supplies.

Gazprom insists a deal between the ex-Soviet rivals must be struck purely on commercial terms, thus outside the EU's remit.

But Yuri Prodan, Ukraine's energy minister, told parliament on Tuesday the EU Commission had signaled its willingness to participate in talks between Russia and Ukraine to settle a contract for 2009 and beyond. This was not confirmed by the EU.

Analysts said it was in Ukraine's interest to drag out contract talks, frustrating Russian efforts to sell gas and raising the specter of expensive output cuts. If Ukraine pays market rates, it may look to the second quarter.

Svitlana Maslova, economist at Barclays Capital in London, said she expected average Russian gas prices to western Europe in the second quarter to decline sharply to about $250 per 1,000 cubic meters.

"The price of $450 mentioned by Russian officials is possible only as a market price for the first quarter," she said, estimating Ukraine would cut Russian gas imports to 40-45 billion cubic meters this year from the usual 55 billion.

Ukraine's utilities and private householders each consume about 12 billion cubic meters of gas per year. Another 6 billion goes to preparing food. Heavy industry uses 25-26 billion, of which the steel sector takes 6-10 billion.

'EXTERNALLY VULNERABLE'

Opinion is divided about how Ukraine's hryvnia currency will respond to the gas row. Some analysts say a steep hike in prices would further widen the current account deficit and trade gap. Others say the recession would narrow them by cutting imports.

Analysts polled by Reuters at the end of December saw the hryvnia at 7.97/$ by the end of 2009. Rates on the market were 8.75-8.9 hryvnias per dollar on Tuesday and deals were done at around 8.8, a dealer said.

"The final terms of gas contracts will be very important for the balance of payments outlook," Maslova said.

"Ukraine is likely to remain externally vulnerable. It needs to repay about $30 billion in debt this year, but what inflows does it have? There is help from the IMF and other international organizations, but it's not enough to fill the gap completely."

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